A Wharton professor, who taught us valuation, once told this story of Merton Miller, who won the Nobel Prize in Economics for his work on the Miller-Modigliani theorem.
At that time, our professor was a student at the University of Chicago, where Miller was also teaching. Given the excitement around the Nobel prize, Miller had to hold a press conference.
When the reporters asked Miller to explain what he got the Nobel Prize for, he stated the Miller-Modigliani propositions.
Seeing the reporters unimpressed, he said, “Basically, we proved that if you take money from one pocket and put it in another pocket, the total amount of money you have doesn’t change.”
When the reporters were still unimpressed, he added, “And we proved it very rigorously!” 🙂
But it didn’t help.
And the reason Miller failed to awe the reporters was that the Miller-Modigliani proposition is pretty simple at its core — it essentially says that under certain idealized conditions (e.g., no taxes, bankruptcy costs, etc.) the capital structure (debt/equity mix) does not change the firm’s value.
Of course, in the real world, the idealized conditions don’t exist but it gives you a baseline to start from. It is a very simple idea and that simplicity is its power.
When people talk about finance and valuation, they make it incredibly complicated. Sometimes it is out of ignorance, but more often, it is deliberate.
Finance is not quantum physics nor is almost any business subject. But we make it like quantum physics so that nobody can figure out what we are talking about.
Never trust a finance guy (or any guy?) who can’t logically explain things in relatively simple language.
– Rajan